Friday, June 7, 2013

In
the wake of the Third Circuit Court of Appeals’ Boardwalk decision, which denied
the allocation of federal historic tax credits to the project’s corporate
investor, a chilling effect descended over the historic tax credit market. The deal structure utilized in Boardwalk, which was consistent with
industry practice, focused almost exclusively on the transfer of tax credits
while shielding the investor from any meaningful risk associated with the
outcome of the Atlantic City Boardwalk Hall rehab project. Boardwalk,
then, sent a strong signal that this type of deal would face heavy IRS scrutiny,
as opposed to a transaction that created a more substantial and legitimate
project partnership between the developer and investor. Unfortunately, while Boardwalk gave an indication of what type of transaction structure
would not pass muster, it provided little in the way of a clear set of rules
for the industry to follow in structuring project partnerships moving
forward. As a result, investors,
including the large corporations that have regularly invested in historic tax
credits, are wary and have been reluctant to reenter the historic tax credit market
as they wait for the questions raised by Boardwalk
to be answered.

As
the industry sat on ice waiting for more direction, the IRS Chief Counsel’s
Office publicly released an inter-office memo in March that effectively
underscored the IRS’s rejection of the Boardwalk
transaction structure. Much like its
position in Boardwalk, the IRS memo
argued that a partnership structure like that in Boardwalk is a sham because the investor has no meaningful stake in
the partnership (either risk or reward), and the sole aim of the partnership is
to serve as a means of transferring tax credits. To many, this left little room for hope that
the IRS would soften its stance.

Meanwhile,
the partnership that lost in Boardwalk
had been waiting for the Supreme Court to decide whether or not it would rehear
the case on appeal. Many in the industry hoped the Supreme Court
would take this opportunity to challenge the IRS’s position and resolve the
issues raised by Boardwalk in favor
of the project partnership. The Supreme Court,
however, officially denied the petition on May 28th.

The
Supreme Court’s decision to deny the Boardwalk
appeal and the IRS memo have lengthened the shadow looming over the historic
tax credit market, which has had a direct impact on HBI’s very own project to
restore the Alvah Kittredge House. HBI
anticipates receiving $667,095 in federal historic tax credits for the
Kittredge rehabilitation but must partner with a corporate investor in order to
monetize the tax credits since HBI, as a nonprofit, has no income tax liability.
Reflecting the wider sense of uncertainty pervading the market, the response to
HBI’s partnership investment solicitation was tepid, leading HBI to temporarily
suspend the partnership process.

The
clear implication from the IRS is that it expects project investors to accept a
more meaningful stake, both in the form of risk and reward. Undoubtedly, however, investors and
developers like HBI are eagerly awaiting more concrete guidance on how to structure
future partnerships so as to avoid the fate suffered by the project partnership
in Boardwalk. Thankfully, the IRS appears to be heeding this
call.

At
the beginning of this month, the IRS and Treasury department stated their
intention to issue guidance that would respond to issues raised by Boardwalk. IRS officials, however, maintained that the
guidance would adhere to the IRS’s position in Boardwalk. Nevertheless, the
Treasury’s Office of Tax Legislative Counsel provided assurance that the
guidance is on a “fast track” and could be expected “sooner rather than later”.

The
US Congress is taking note: On May 22, 28 Congressmen, including Massachusetts
Representative Richard Neal, sent a letter to the Secretary of the Treasury
urging the IRS to put more weight behind its effort to clarify the fallout from
Boardwalk. The letter also communicated the consensus of
the delegates that historic tax credit activity would not return to normal
until the IRS clearly outlines what constitutes an acceptable partnership
structure.

Fortunately,
the IRS has shown a willingness to engage the historic tax credit industry in
order to better understand Boardwalk’s
impact and provide clear guidance on acceptable partnership structures moving
forward. Interestingly, the IRS claims
it never intended to create a chilling effect on the industry. The fact is, however, that it did. Now the question is: how does the IRS intend
to address it so that investors will regain the confidence necessary to invest
in historic preservation projects in partnership with developers like HBI?